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Just how far up the global ethylene cost curve will Middle East crackers go? One Wall Street analyst sees dramatic cost escalation for producers in Saudi Arabia, Qatar and Iran as ethane supplies dry up and feedstock costs rise, especially for mixed feed crackers that use ethane as well as liquefied petroleum gas (LPG) - propane and butane.

It's certainly worth watching as US producers move down the cost curve on the shale gas boom and resulting low ethane prices. All the new crackers being built in the US are based on ethane, while Middle East projects are largely mixed feed.

While Middle East ethane crackers still enjoy the lowest costs in the world with a 46% cost advantage relative to US ethane crackers, Middle East mixed feed crackers have a 24% cost disadvantage to US ethane crackers, according to Hassan Ahmed, analyst at Alembic Global Advisors.

"NGL [natural gas liquids] production in Saudi Arabia has remained relatively flat over the last few years while ethylene capacity has increased considerably," said Ahmed. "Saudi Arabia has been running short of NGLs since 2009 and not surprisingly is considering heavier feeds like naphtha for further chemical expansions."

Saudi Aramco's $20bn (€15bn) Sadara joint venture with US-based Dow Chemical in Al-Jubail will be based on 70% naphtha feedstock, with ethane, propane and butane comprising the rest.

The second phase of Saudi Aramco and Japan-based Sumitomo Chemical's Petro Rabigh project will involve additional ethane but also use 3m tonnes/year of naphtha as feedstock.

In Qatar, in early 2005, the government placed a 5-year moratorium on additional development projects in its offshore North Field, the largest non-associated gas field in the world, noted Ahmed. And then in December 2009, an official at state-owned Qatar Petroleum said a decision on new North Field developments would not be taken until 2014, essentially extending the moratorium.

Analysing raw material cost data from the state fertilizer company QAFCO from 2004 up until 2009 when it stopped releasing certain details from its financial statements, Ahmed concludes that natural gas prices charged to the chemical industry in Qatar may have risen from $1.25/MMBtu in 2004, to around $3.00/MMBtu in 2009.

In Iran, aside from the global trade sanctions led by the US, which is severely limiting its petrochemical and derivative exports, a plan approved by the Iranian parliament in October 2009 and started in December 2010 will eventually set natural gas prices to market prices, noted the analyst.

"Industrial projects, including the petrochemical projects, now have to pay around $2/MMBtu for natural gas for the first year of the reform plan, which is considerably higher than the past price of $0.53/MMbtu in early 2010," said Ahmed.

Looking ahead, Iran plans to increase gas prices to 65% of the average export gas price within 10 years, suggesting gas prices of $5.20-6.50/MMBtu, the analyst added.

Ultimately, all these changing cost factors are worth another look when considering the Middle East's position on the global ethylene cost curve.

For US producers, Ahmed sees a peak in the commodity chemical cycle by 2015-2016 amd a capacity vacuum, and one higher and longer drawn out than in past cycles.

The amplitude of the peak will be higher for US producers, as they are further down the cost curve. Plus, the cost curve has become steeper than in previous years, he added.

As you look over the impressive list of planned projects for North American liquefied natural gas (LNG) exports, you can see a parallel in the heavy project slate for planned new world scale crackers in the US. Both are being driven by the US shale gas boom. Yet there is the potential for one to threaten the other.

Unlimited US LNG exports could create volatility in natural gas and natural gas liquids (NGLs) prices, contends US-based Dow Chemical.

While LNG exports for fuel would consist primarily of dry gas where, in the process, NGLs are stripped out, LNG containing ethane and propane could be shipped out as well, according to the company.

"It is not a given that NGLs will always be stripped out prior to shipping," says Kevin Kolevar, vice president of government affairs and public policy at Dow.

"For example, Japan has specs for wet gas concentrate in LNG. And to what extent would other countries look to use wet gas? We have not heard assurances from the oil and gas community that they would strip out the NGLs."

This is an important aspect for the chemical sector - one that will continue to be explored. There's an argument that LNG exports could actually increase NGL supplies, precisely because the NGLs are stripped out.

Dow contends that it supports LNG exports but is concerned that an unchecked level of exports could drive up prices and volatility in gas and NGLs. "The fact that so much capacity is being planned to come on in a compressed timeframe causes concern," said Kolevar.

"It is all about predictability. In the late 1990s, we saw tremendous volatility in natural gas prices, which deterred investment in the chemical sector," he added.

Dow estimates that over a 10-year timeframe, the US could export up to 5-6bn cubic feet/day (bcf) of natural gas through LNG without disrupting the market if that capacity comes on in a linear fashion.

That would amount to 38-46m tonnes/year of LNG. Yet, there is a total of 199.5m tonnes/year of LNG export capacity being planned in the US, according to an ICIS analysis. And of that amount, 128.6m tonnes/year of capacity are associated with projects with defined completion dates between 2015 and 2018.

There is virtually no chance this comes on in a disciplined, linear fashion - neither will the wave of new world scale ethane crackers. It's simply not the nature of capital intensive businesses.

Of course not all of the planned capacity will be built. And even for those projects that do start up, LNG shipments will not always be at full capacity. This will all depend on market conditions and competitive dynamics at home and abroad.

But US chemical companies are concerned. Already four companies have joined the advocacy group America's Energy Advantage, which is against unfettered LNG exports.

It's important to remember that the chemical industry is not the only group seeking to take advantage of cheap US natural gas prices.

Along with LNG projects, other major draws on natural gas will come from utilities in the form of gas-fired power plants, as well as fertilizer projects.

Meanwhile, the US petrochemical sector is planning seven new world-scale crackers and expansions of existing facilities for a total of 10.2m tonnes/year of additional ethylene capacity. This represents a whopping 38% of existing US capacity.

And speaking of parallels between the rash of planned US crackers and LNG export facilities, one LNG export project website struck a common theme - "thousands of jobs and billions of dollars invested".

All the planned new US ethane crackers and expansions, debottlenecks and conversions of existing crackers will need lots of the natural gas liquid (NGL) feedstock. And companies are already racing to boost NGL fractionation capacity and build out pipelines to bring gas from the major shale gas formations to petrochemical facilities.

US natural gas processor Enterprise Products Partners is leading the way with three new 75,000 bbl/day NGL fractionators at its Mont Belvieu, Texas hub - one will come on in the fourth quarter of 2012, and two in the fourth quarter of 2013.

Meanwhile, a Chesapeake Energy-led partnership is building a 90,000 bbl/day NGL fractionator in Harrison County, Ohio, to come on in the second quarter of 2013, to process gas from the Utica Shale. It is part of a $900m (€676m) investment in natural gas infrastructure. Others building or upgrading NGL fractionators include Dominion, Williams and Chevron Phillips Chemical.

And pipeline projects abound to bring NGLs to the US Gulf Coast as well as Sarnia, Canada - two major petrochemical hubs.

In the coming weeks, we'll attempt to document the infrastructure build-out and determine whether it will be enough to feed the petrochemical beast.

The US shale gas boom and the resulting low prices of natural gas are spurring a wave of new crackers and expansions in the country. Ultimately, the US ethylene market could see a 29% increase in capacity by 2017 (see our full analysis in the February 13 issue of ICIS Chemical Business.

Three local producers - Dow Chemical, Shell and Chevron Phillips - are proceeding, each with world-scale crackers set to start up in 2016-2017. South Africa-based Sasol, which already has a mid-size cracker in Lake Charles, Louisiana, is considering the construction of a 1.0-1.5m tonne/year cracker at the same site, aiming to complete the study by the second half of 2013.

Plus, many others are expanding or considering new world-scale crackers. Yet more are also moving to convert their plants to crack lighter feeds.

Ultimately, a 29% boost in US ethylene capacity by 2017 will cause a profound disruption in the market. Many things have to go right for this capacity to be absorbed into the local and global market.

Many are counting on naphtha-based crackers in Europe and Asia shutting down. Yet for Europe, integrated polyethylene (PE) margins have equaled or exceeded those of US ethane-based producers in every year from 2008-2011. So far in 2012, US producers have taken the lead as ethane prices have plunged.

While some select crackers may shut down, don't count on a wave of Europe cracker closures. Their integrated PE margins taking into account co-products propylene and butadiene from naphtha cracking have been solid.

Do third quarter earnings really matter? As we move into the thick of the earnings season, all eyes will be on how the fourth quarter is shaping up and how analysts will handicap fourth-quarter 2011 and full-year 2012 projections.

Leading up to results, pre-announcement warnings have been scarce in the chemical group, boding well for overall third quarter numbers in relation to analyst expectations. The impact of the global economic slowdown will be evident, but likely to be more pronounced in the fourth quarter.

For the petrochemical sector, there is particular risk to the fourth quarter outlook. One key question, says Laurence Alexander, analyst at US-based investment bank Jefferies & Company, is: What will be the timing of volumes and margins in the fourth quarter? US ethylene margins have contracted sharply in the past two months, while volumes have been lackluster.

"Anecdotally, volumes in October are weak as downstream buyers wait for derivative pricing to come down," says the analyst. "Fourth-quarter earnings prospects for polyolefin producers hinge largely on if volumes recover in November, ahead of the winter shutdowns, and if such an uptick in volumes coincides with margin recovery."

Alexander sees downside risk to Wall Street's fourth-quarter consensus estimates for US-based Dow Chemical and Netherlands-based LyondellBasell. His earnings-per-share forecasts for Dow and LyondellBasell are $0.37 (versus consensus of $0.50) and $0.77 (versus consensus of $0.92), respectively. His 2012 earnings-per-share estimates on Dow and LyondellBasell for 2012 are also significantly below consensus.

On the flip side, Hassan Ahmed, analyst at US-based investment research firm Alembic Global Advisors, sees positive signs that global chemical volumes are not as weak as many believe. At Dow's investor day meeting on October 4, the company indicated that it continued to see significant demand growth across almost all end markets in China - "negating the cycle bear arguments in our view," says Ahmed.

More recently, he points out that strong third-quarter results from Saudi Arabia-based SABIC bode well for commodity chemical sector results in the quarter.

Yet on the outlook, most analysts have taken down 2011 and 2012 earnings-per-share estimates in the past several weeks, with more cuts likely to come following third-quarter earnings season.